Regulators Investigate Banks For Lying About Investor Interest In European Bond Market

A year ago we discovered that several European countries only managed to squeeze into the Eurozone by misrepresenting their total debt courtesy of Goldman Sachs facilitated currency swaps which misrepresented the true state of said countries' finances. Yesterday it was revealed that at least one Spanish region had been openly lying about its economic performance and underrepresented its budget deficit by about 50%. Today we go deeper into the rabbit hole, after a WSJ report discloses that European banks 'may' have been openly and frequently lying by misrepresenting to others about the amount of third party demand at any given bond auction. Think of it as the same BS that a bulge bracket bank in the US will use to sucker retail momo investors into a hot IPO. "A European self-regulatory body is looking at whether that perennial optimism might have at times been misleading for investors in the European debt markets, according to people familiar with the matter. The International Capital Market Association, or ICMA, is examining whether banks have been improperly exaggerating the amounts of investor demand they are seeing in certain bond sales, including for debt issued by European governments, these people say." Where does the rabbit hole lead next: someone discovers that the Bid To Cover ratio in all US bond auctions over the past several years have really been 50% lower than represented publicly? As for Europe: does anyone believe anything coming out of that continent anymore following the whole Jean-Claude Juncker fiasco? The Eurozone and the euro are both doomed and everyone knows it. But all is fair in love and perpetuating doomed ponzi pyramids (which is not to say that the US is any better).

The action by ICMA has been sparked by complaints from some banks and investors that some lenders talked up investor interest in some bond deals in an attempt to whet investors' appetites for potentially risky bonds, such as those issued to support ailing euro-zone countries, these people say.

Some bankers say the complaints and ICMA's inquiry have the potential to reduce demand for European sovereign debt. Financially shaky European governments in the past year have struggled to raise debt via the capital markets.

ICMA, a Zurich-based trade association that sets guidelines for conduct in equity and debt markets, has been looking into the complaints for months, according to people familiar with the situation. The group is likely soon to issue guidelines to its members discouraging such exaggerations, these people added.

ICMA doesn't have powers to compel banks to change their behavior and isn't in contact with national regulators, but the planned guidelines are a sign of concern at an issue that has been widely regarded as a gray area in financial markets for years. There is no indication that the practice is illegal.

To be sure, among the legitimate complaints there are those coming from investors who have gotten burned and are now simply looking for ways to undo the transaction and in the process get a few settlement pennies:

The complaints involve a standard industry practice. When marketing a bond sale, banks offer would-be investors informal hints about how much demand there is for the debt, according to bankers and investors. That guidance influences the size of the orders that investors place. If there is heavy demand for a certain bond, investors generally enlarge their bids to ensure they get at least a piece of the action.

While the art of salesmanship often relies on an element of bluff, investors and some banks have complained to ICMA that some underwriting banks went too far. They complain that banks selling debt claimed there was greater demand for certain deals than there really was.

They say investors bought many more bonds than they had planned because they were led to believe they needed to place big orders or miss out, according to numerous banks and industry officials.

But the reality is that at its core this was a pervasive practice: just look at the excesses of our own IPO booms during the first and second (and still continuing at least until Groupon prices) dot com boom.

One deal under scrutiny is a "covered bond" issued by Spain's Banco Santander SA last month, one person said. A covered bond is backed by collateral that stays on a bank's balance sheet, in this case, Santander's loans to Spanish regional and local governments.

The deal was managed by HSBC Holdings PLC, Société Générale SA, Commerzbank AG and Santander itself. ICMA members have raised concerns that during the sale process, one or more of the banks told potential investors that they had lined up about €1.5 billion ($2.1 billion) of orders, exceeding the original size of the planned €1 billion offering, according to people familiar with the matter.

But the deal fell flat. Investors balked at the prospect of exposing themselves to Spain's shaky economy. In order to move the €1 billion of debt, the underwriting banks had to buy hundreds of millions worth themselves, these people say. The banks declined to comment.

Regardless of the final findings (and with banks being involved, we are confident the investigation will be promptly muzzled), the aftereffects will linger as at least the retail base, or those not trading with other people's money, loses even more interest in participating in what is increasingly becoming a rigged market: first in equities, and now in bonds.